Yes. SaaS (software as a service) is taxable in Tennessee in many situations. Businesses that are transacting with customers in Tennessee must collect and remit sales if they have nexus.
According to the Tennessee Department of Revenue, all computer software is considered equal “regardless of how a person accesses the software.” In other words, software that is purchased and downloaded on an end user’s device is treated the same, under Tennessee tax law, as software that is accessed via a subscription, for instance, but that is never downloaded by the user.
Why is understanding taxation on SaaS in Tennessee important?
As a growing software company, understanding Tennessee sales tax laws will help you stay in compliance and avoid complications down the road. Failure to stay in compliance could lead to unpaid taxes, which result in penalties that could end up costing your company a lot of money.
It’s also important to understand how sales tax is calculated and remitted in Tennessee. Correctly calculating the tax rate requires confirming the location of the buyer. This is due to Tennessee’s “destination-based sales tax system,” which was adopted on July 1, 2024. It applies to the sale of services performed on tangible personal property and computer software.
Understanding and correctly applying sales tax on SaaS helps build trust with customers by providing consistently correct billing statements.
What does taxability mean for SaaS in Tennessee?
In Tennessee, software that stays in possession of the seller and that is made available to customers is taxable. Any company (with nexus) selling SaaS in Tennessee is required to collect sales tax from the customer during the sale of such services.
In addition, custom software is taxed in Tennessee, which isn’t always the case in neighboring states like Kentucky.
Defining SaaS and understanding its unique characteristics
Applications that are hosted in the cloud or on a developer’s servers rather than downloaded to an end user’s devices are defined as SaaS.
Examples include email, office tools such as Microsoft 365, payroll software like QuickBooks or Gusto, and marketing software like Hubspot and Salesforce.
Taxation rules in Tennessee
Regulations regarding sales tax for SaaS products vary from state to state and are subject to change. In many cases, states enforce sales tax collection when a business has nexus in the state. Nexus is typically defined as a physical presence in the state (for instance, offices, a warehouse, or employees) or as a certain economic threshold. In Tennessee, that threshold is $100,000 in sales (during the current or previous calendar year) or 200 or more separate transactions during a calendar year.
Are there exemptions or exceptions?
In general, SaaS is subject to sales and use tax under the state’s Revenue Modernization Act. Exceptions or exemptions to this law include nonprofit organizations, government entities, and educational institutions. If SaaS products are purchased with the intent to resell and a valid resale certificate is provided, no sales tax needs to be collected during that sale. There are also possible exemptions for certain commercial enterprises. It’s wise to consult with a tax professional to understand possible exemption opportunities.
What about digital goods?
According to the Tennessee Department of Revenue, other digital goods subject to sales tax include digital audio-visual works, digital audio works, digital books, software that is downloaded, and digital codes.
How local tax rates may apply
Tennessee has a state sales tax rate of 7%, and some local jurisdictions across the state apply additional sales tax. On average, the combined rate, including state-level and local taxes, is 9.55%.
As an illustrative example, if a SaaS provider is going to sell a subscription to a customer in Tipton County, Tennessee, they should apply state and local sales taxes in accordance current laws.
If a subscription is $500 per month, the company should calculate and add the state sales tax rate of 7% onto the subscription fee, plus a local tax rate of 1.5217% (Tipton County tax rate). Based on these numbers, the provider would need to charge $35 for the state tax and $8 for the local tax, making a total of $543 to be charged to the customer.
Importance of accurate tax collection and remittance
Correctly calculating, collecting, and remitting taxes on SaaS products in Tennessee is crucial. Failure to do so will lead to penalties and potential reputational damage. There are several steps to take to ensure SaaS businesses accurately manage their tax obligations in Tennessee:
- Determine whether your business has economic nexus more than $100,000 sales or 200 transactions in Tennessee in the previous or current calendar year).
- Determine physical nexus — an office, warehouse, or employees in the state.
- Register with the Tennessee Department of Revenue for a Sales and Use Tax Permit via the Tennessee Taxpayer Access Point (TNTAP) on the department's website.
- Collect and invoice 7% (current Tennessee sales tax rate) and any local sales taxes that may apply on every transaction.
- Use form SLS-450 or file through TNTAP to report total taxable sales within Tennessee and sales tax collected by jurisdiction.
- Remit payments of all sales and use taxes through TNTAP
- Keep detailed records of all sales, invoices, exemptions, and tax filings for at least three years in case an audit is required.
The bottom line
To say there is much to understand, even the basics of SaaS taxability in Tennessee, is an understatement. And laws will likely continue to change, both in Tennessee and across the country. There are many resources available that can help you get an understanding of best practices when it comes to calculating, collecting, and remitting the appropriate sales tax on SaaS products. Additionally, companies such as Numeral can help SaaS companies put their taxes on autopilot, eliminating the need to figure out these complex laws altogether.
